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Cash is still king in 2013

Richard Hemming

The evidence in 2013 is that the rich continue to get richer as companies with strong cash reserves benefit not only from their competitors' weakness, but also from investors' perceptions.

Five years ago it was conventional wisdom that in a low-interest rate environment, having a good whack of debt increased returns to shareholders. This is no longer the case as shareholders see all too often the difficulties that companies can get into when they can't raise funds.

Alchemia

On Friday Alchemia announced its chief executive Dr Peter Smith was departing, and for Radar an image of the Costa Concordia came to mind.

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When we last looked at this biotech in late November 2010 they were trading at close to 60¢ and we were sceptical of its intention to raise $50 million in share capital, de-merge and do a Nasdaq listing. In the wake of failure, it's now trading at 34¢.

Alchemia's chairman, Mel Bridges is still trying to sound upbeat about a (much smaller) capital raising in order to complete the final stages of testing for its cancer treatment: “I'm meeting Peter for a social occasion tomorrow, so there's no animosity… We will look to take the overhang off and are quite confident.”

We take “overhang” to refer to the market's expectation of a capital raising, which is behind the plummeting share price. When asked how much this was going to be, Bridges said it depended on how much it would take from its golden goose, the $10 million or so annual profits from its Fondaparinux drug (a generic version of GlaxoSmithKline's version used to remove blood clots).

Much will depend upon the thoughts of Simon Marais, whose Allan Gray holds 19 per cent and if Smith is right and the capital raising is swiftly done in the next fortnight, it could provide an opportunity for a quick turn.

Specialty Fashion

Contrast this to one of Radar's tips, the owner of stores such as Katies and Millers, Specialty Fashion. At 95¢, its stock has almost doubled since we covered it in late July in the wake of strong profit results, which were underpinned by its net cash and lower rents.

This retailer goes to show that there is still money to be made in bricks and mortar, but it's important that the company has cash reserves to take advantage of the cheap rents available out there. Operating leverage is the key to these businesses. As the volume of sales increases, each new sale contributes less to the fixed cost and more to its profits.

Altona Mining

Another tip, the copper developer, Altona Mining, hasn't performed as well, due to the absence of a white knight in the form of a development partner with big pockets. At 23¢, it has fallen about 23 per cent in the past month and is about 10 per cent below were we tipped it after Xstrata failed to take up an option to invest in 51 per cent of its 1.5 million tonne “Roseby” copper project near Mount Isa in Queensland.

Altona's managing director Alistair Cowden has said that the company does not have the funds to develop it on its own.

Radar understands that Xstata does want the project, but at a lower price, to feed its mill, which is less than 100 kilometres away. Now that Xstrata is under the Glencore flag after the multibillion-dollar merger, it's entirely probable that the Xstrata executives are sitting around wondering exactly what (if any) authority they have.

It's also worth remembering that there are other interested parties. The Chinese owned MMG is about to spend more than $1 billion on its Dugald River zinc, lead and silver project, located 11 kilometres south.

More important still is Altona's highly profitable mine in Finland. Its Outokumpu has started producing 10,000 tonnes of copper equivalent for eight years, generating about $30 million a year, and there is scope for expansion.

All these companies have fantastic assets, but it's clear that the scar tissue from the 2009 financial crisis has not gone away. There is still potential to make money from the Alchemias and Altonas of this world, but as an investor you have to be prepared for a roller-coaster ride.

Paradoxically, it might not be until interest rates start rising again that investors change their tune, and start embracing debt once again.

Click here to access the fortnightly newsletter Under the Radar Report: Small Caps, edited by Richard Hemming. Visit here for more Under the Radar articles.